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What is the Company Tax Rate?

Now this should be an easy answer. So tell me what you think it is? I understand that it is a bit harder than it was now that there are two rates, being 30% and 27.5% (28.5% in the 2015/16 year). But can you tell me who gets the lower rate?

Don’t worry if you can’t because neither can the Commissioner…

In Practical Compliance Guideline PCG 2018/D5 Enterprise Tax Plan: small business company tax rate change: compliance and administrative approaches for the 2015-16, 2016-17 and 2017-18 income years the Commissioner states:

1. This draft Guideline sets out the ATO’s compliance and administrative approaches for corporate tax entities that have faced practical difficulties in determining their corporate tax rate and corporate tax rate for imputation purposes in the 2015-16, 2016-17 and 2017-18 income years.

2. The Commissioner acknowledges that uncertainty may have arisen as a result of changes to the tax laws, and changes to these laws still before Parliament, that set out eligibility for the reduced corporate tax rate and the subsequent release of Draft Taxation Ruling TR 2017/D7 Income tax: when does a company carry on a business within the meaning of section 23AA of the Income Tax Rates Act 1986?.

The background in a very quick summary is (the longer summary is in this 9 pager paper I wrote) that from 1 July 2015, corporate entities that were small business entities (less than $2m turnover and carrying on a business) were given the 28.5% tax rate. From 1 July 2016 the rate dropped to 27.5% for these small business entities (but now less than $10m turnover and carrying on a business). For 1 July 2017 the 27.5% rate was available to base rate entities (less than $25m turnover and carrying on a business) and from 1 July 2018 the 27.5% rate was available to base rate entities (less than $50m turnover and carrying on a business).

But what is a business? The Commissioner has some weird understanding of this and even put out a Draft Ruling (Draft Taxation Ruling TR 2017/D7 Income tax: when does a company carry on a business within the meaning of section 23AA of the Income Tax Rates Act 1986?). For example, For example, these are companies carrying on a business according to the draft Ruling:

  • A share investment company; and
  • A family company with income consisting only of an unpaid trust entitlement, which it reinvests, even if it is just under a loan agreement back to the trust

It is unlikely that any practitioner has considered these companies to be carrying on a business previously.

Although this draft Ruling has never been finalised due to the Bill introduced on the same day, the draft Ruling shows that the Commissioner is considering a major change in his understanding of what can be carrying on a “business” and this could open the door for many more corporate entities claiming the small business concessions that exist.

The Government did not like the Commissioner handing out the 27.5% rate to almost every company so 3 hours after the Draft Ruling came out the Government released the Treasury Laws Amendment (Enterprise Tax Plan Base Rate Entities) Bill 2017. This Bill (still before the Senate) states that, from 1 July 2017, a company will qualify for the lower corporate tax rate for an income year only if:

  • No more than 80% of the company’s assessable income for that income year is base rate entity passive income; and
  • The aggregated turnover is less than the aggregated turnover threshold for that income year ($25m for the 2018 year and $50 for all subsequent years).

So where does this leave us… We have the law as it is today, we have a Draft Ruling that massively expands the definition of “carrying on a business”, and we have a Bill that throws out the definition of business altogether and replaces it with a passive income test. If I am completing the Company Tax Return for either of:

  • A share investment company; and
  • A family company with income consisting only of an unpaid trust entitlement from a business trust, which it reinvests under a loan agreement back to the trust;

for the 2017/18 year, do I:

  • Use the 30% tax rate for both like I did in previous years as I don’t believe the Company is carrying on a business based on the Commissioner’s finalised positions?
  • Use the 27.5% tax rate for both as I believe the Company is carrying on a business based on the Commissioners draft position in the Draft Ruling positions? Or
  • Do I use the 80% passive income rule in the Bill before the Senate which means the share investment company uses the 30% rate and the family company gets the 27.5% rate as we look through the trust distribution and see it comes from a business?

And remember, the lower rate might sound good but what if you want to pay out lots of franked dividends? The higher rate might be better.

The Commissioner gives an answer to this question is in Practical Compliance Guideline PCG 2018/D5 Enterprise Tax Plan: small business company tax rate change: compliance and administrative approaches for the 2015-16, 2016-17 and 2017-18 income years. And the answer is DO WHATEVER YOU WANT AS LONG AS IT IS NO UNREASONABLE OR DODGY. What he actually says is…

This means that the Commissioner will not allocate compliance resources specifically to conduct reviews of whether corporate tax entities have applied the correct rate of tax or franked at the correct rate in the 2015-16 and 2016-17 income years. However, this approach will not apply where:

  • the Commissioner becomes aware that a corporate tax entity’s assessment of whether they were carrying on a business in the 2015-16 or 2016-17 income years was plainly unreasonable, or
  • the corporate tax entity has entered into
    • any artificial or contrived arrangement affecting the characterisation of the company as carrying on a business or not
    • a tax avoidance scheme whose outcome depends, in whole or part, on the characterisation of the company as carrying on a business or not, or
    • arrangements designed to conceal ultimate beneficial or economic ownership of any connected or affiliated entities.

Choose away! Optional tax rates!

 

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Dodgy workers (and their agents) cost us $8 billion every year

Do you know those evil multinational and large companies with all their high paid tax agents incorrectly avoid about $2.5 billion a year in tax. How evil are they, huh? Picking on the little, hard working guy, huh?

Let’s just end that argument now as the Commissioner, the same guy who gave us the $2.5 billion figure, has now worked out what those little, hard working guys are either not declaring as income, or just making up deductions for. And their dodgy claims, with a lot of help from tax agents, means they don’t pay $8.7 billion every year.

And to make it worse, this figure excludes individuals classified as high-wealth who control a net wealth of $5 million or more – this is just your average individual tax returns.

How did the Commissioner get this number? They took a totally random sample of 858 individual tax returns and found that 72% had errors which, when applied across the 13 million individual tax returns, gives $8.7 billion of wrongly avoided tax by these individuals.

But here is the real annoying part of the findings… “agent-prepared returns had a 78 per cent error rate compared to 57 per cent of self-prepared returns.”!!!

Agent prepared returns are wrong 78% of the time and wrong substantially more often than self preparers. Think about what this means. It won’t be that agents make technical breaches as they know this stuff. It will be real mistakes they make… So what are these mistakes?

Of this $8.7 billion, only $1.4 billion relates to unreported income, which is normally due to the client not telling the agent about the income. But the rest of this lost income (over $7 billion) will be incorrectly claimed deductions.

… I’ll just add in $150 for clothing (even though the client does not have eligible work related clothing), $300 for work related expenses (even though the $150 of clothing just reduced this to $150 and they did not have any other expenses), 5,000 x 66 cents for your car (even though they have no record of any work related travel), I won’t ask if you stayed in your rental property (even though they stayed in it for 2 month last year), your a teacher so you can claim sunglasses so I will add them in (even though you did not buy any sunglasses this year), you travelled for work so I will claim a deduction for the reasonable allowances (even though the employer reimbursed all the costs)…

And it is not a surprise how the Commissioner ends his analysis of this information… “500 tax agents were in the ATO’s sights, with 150 of those expected to be closely scrutinised.” I doubt those 500 agents are responsible for $6 billion of dodgy claims…

So who is the biggest tax cheats in this country? Is it the multinationals and the large companies? Even with their high paid tax lawyers they can’t even get close to the dodgy tax agent who makes up deductions for their individual clients or just don’t ask about what they wear to work, what travel they do for work, what they actually purchased, how they used their rental property.